ASE Technology Holding Co., Ltd.

Hello, I am Ken Xiong, the head of investor relations for ASE Technology Holdings. Welcome to our second quarter 2019 earnings release. All participants consent to having their voices and questions broadcast via participation of this event. Please refer to our safe harbor notice. I would like to remind everyone on this call that the presentation that follows may contain forward-looking statements. These forward-looking statements are subject to a high degree of risk, and our actual results may differ materially. For the purposes of this presentation, our dollar figures are generally stated in new Taiwan dollars, unless otherwise indicated. As a Taiwan-based company, our financials are presented in accordance with Taiwan IFRS. Results presented using Taiwan IFRS may differ materially. from other accounting standards. For today's event, I will be going over the financial results. Then we will have a Q&A session with Joseph Tong, our CFO. As a reminder, because ASC Holdings was jointly formed on April 30th during the second quarter of 2018, as a legal entity, our spill subsidiaries results are consolidated only as of that date going forward. Results for the legal entity are labeled legal entity basis. For the sake of comparability, we have also included results which are compared against a pro forma set of results as if SPIL was a subsidiary and consolidated as of the beginning of 2017. This set of results is labeled pro forma basis. Given that the transaction was completed during the second quarter, the legal entity and pro forma basis will have the same sequential comparisons between the first and second quarters. However, the pro forma numbers are still relevant for the quarterly year-over-year comparisons. First order of business. First order of business is a quick update on our original goal set at the beginning of the year. We believe that these key measures would help define how well we perform during the year. Please evaluate these points in the context that they were achieved during what has generally been viewed as a soft loading environment. Both our advanced packaging and test businesses outgrew our overall ATM business. During the first half, the advanced packaging business grew 6% year over year. The growth was driven off of increasing customer adoptions from increasing IO density and product complexity. Our test business also continues to outperform, growing 7% year-over-year. We believe we can continue to take market share via a re-geared engineering and turnkey strategy. SIP also grew by more than 25% during the first half year-over-year. We are also well on our way to achieving our $100 million incremental new SIP business for the year. we are making the appropriate investment in critical R&D areas across both ATM and EMS, such as the various types of fan outs, the next generation of bumping, and SIP. During the first half, we have increased our R&D costs by 12% for AATM and 9% for EMS when compared with first half of last year. We believe these expenses are a modest investment for the impact they can potentially achieve. For our second quarter performance, compared to typical seasonality, our ATM business experienced a relatively mild uptick, while our EMS business entered its traditional trough period. The on-again, off-again U.S.-China trade war had its impact by creating uncertainty across global supply chains. the ultimate short and long-term impacts of these actions are still unclear. And at least for a period of time during the quarter, market shares and customer relationships seemingly had been forcefully rearranged. The electronics industry in the midst of recovery showed its resilience and things do seem to be settling down to a new norm. Even though this new norm gives us little history on how to judge our customers' results, and more importantly, outlooks. With all that said, we do seem to be entering the dawn of something pretty big. We see the overall landscape beginning to shape up. As we look into the second half, things appear to be reasonably good. There are, of course, uncertainties and risks regarding the potential sell-through of any number of products. However, we don't think anyone can tell with any reasonable amount of certainty what the appetite of global consumers will be. Nevertheless, we are hopeful about the start of the 5G promise, with at least the sub-6 gigahertz spectrum propping up the promise of faster speeds. Smaller volumes of both infrastructure and handset chips are ramping now, and we are hopeful they will be filling our 2020 capacities. And as 5G adoptions become more and more commonplace, wider millimeter wave infrastructure will be put into place and additional applications and devices will begin another ramp. We're also confident in the midst of the coming builds, our SIP products for ATM and EMS will continue to make inroads as our design wins continue across a wider customer base. And just in time for all of this, we will finally be able to work together with our teammates at Spill. So the clouds do seem to be parting. And there still may be a few rain showers here and there. But it certainly feels as if the end of the storm is near. And as a leader in the electronics manufacturing supply chain, we believe that now is the right time to invest in capital equipment. Now is the right time to invest in research projects. And now is the right time to invest in developing new product introductions. And as we mentioned in January, we're investing in the future with higher new product development spent at both ATM and EMS. These investments right now are in the product technologies like SIP and FanOut, will fuel the growth not just for the second half of 2019 into 2020. These investments will set the table for future growth drivers like millimeter wave and allow the likes of millimeter wave to take shape. 2019 will set the stage as the critical investing year. So let's start the financial overview. On page three and four, you will find our legal entity quarterly results for the holding company. and our ATM business unit. On a legal entity basis, the second quarter year-over-year results are not comparable between 2019 and 2018 because of the inclusion of spill in 2019 and the inclusion of only two months of spill in 2018. I will generally discuss the sequential and year-over-year comparisons as part of the pro forma basis slides. Let's briefly go over page three. For the legal entity, we recorded fully diluted EPS of 62 cents. and basic EPS of 63 cents. Sales were $90.7 billion with a gross profit of $14 billion and gross margin of 15.4%. Operating profit was $4.1 billion. Net income was $2.7 billion. On page four, you will find our legal entity results for our ATM business. We will discuss this in the pro forma section a bit later. Let's move forward to page five. Here we have our pro forma P&L for the consolidated holding company. To generate the historical pro forma periods, we added the historical P&Ls of each ASE and spill on a retroactive basis. We then added PPA and interest expenses related to the transaction, as if the transaction was completed as of the beginning of 2017. And lastly, we removed relevant transaction fees and expenses. Given that the fluctuations from the holding company are comprised of ATM and EMS businesses, I will try to keep the explanations here short and provide detailed explanations during each of the business unit slides. For the second quarter, we had net revenues of $90.7 billion, representing a 2% increase quarter over quarter and a 1% decline year over year. The quarter over quarter increases were primarily driven by a seasonal pickup within our ATM business offset by a larger than expected decline in our EMS revenue. The year-over-year decrease is primarily the result of a softer industry environment. Gross profits were up 23% quarter-over-quarter and down 5% year-over-year. Gross profit margin improved 2.6 percentage points on a quarter-over-quarter basis due to a better loading environment. Gross profit margin declined 0.7 percentage points on a year-over-year basis due to a softer loading environment. Our operating expense percentage was up 0.6 percentage points to 10.8% from 10.2% in the first quarter and up 0.9 percentage points on a year-over-year basis. The higher operating expense percentage is due to higher than expected EMS operating costs during the quarter. Operating profit was $4.1 billion. This represents an increase of $1.9 billion quarter over quarter and a decline of $1.6 billion year over year. Sequentially, operating margin improved 2 percentage points and was down 1.6 percentage points year over year. During the quarter, we had a net non-operating gain of $0.3 billion. This includes net interest expense of $1 billion. The remaining gain was primarily from our financial instruments and foreign exchange hedging activities. Tax expense for the quarter was $1.6 billion. For the second quarter, we booked a tax charge for our annual undistributed earnings tax in addition to a one-time transaction-related tax expense. Even though we expect a lower effective tax rate for the latter half of the year, we now expect a full year tax rate to be closer to 24%. Net income for the quarter was $2.7 billion representing an improvement of $0.6 billion from the previous quarter. On a year-over-year basis, net income was down $0.8 billion from the same period in 2018. On the bottom of the page, We have again provided here key P&L line items without the inclusion of PPA-related expenses. Consolidated gross profit, excluding PPA expenses, would be $15.2 billion with a 16.7% gross margin. Operating profit would be $5.6 billion with an operating margin of 6.2%. Net profit would be $4.1 billion with net margin of 4.6%. Basic EPS excluding PPA expenses would be $0.98. On page six is our ATM pro forma P&L. For the second quarter, revenues for our ATM business were $59.8 billion, up $5.4 billion from the previous quarter and down $2 billion from the same period last year. This represents a 10% increase sequentially and a 3% decrease year-over-year. We see the sequential revenue improvement and year-over-year revenue decline as being indicative of a mild recovery in process. We would like to note in particular that our test business is leading our ATM recovery, growing 15% quarter-over-quarter and 8% year-over-year. We feel that our strategy and investment in the test is working. Gross profits within ATM were up $2.6 billion quarter over quarter and down $0.8 billion year over year to $11.1 billion. The differences in sequential and year over year gross profits are primarily loading related. Gross margin for ATM was up 3 percentage points sequentially and down 0.7 percentage points year over year. The sequential improvement is again due primarily to higher loading. The year-over-year drop in gross margin is primarily the result of a softer loading environment. During the second quarter, operating expenses were $7.4 billion, up $0.6 billion from the first quarter, and up $0.5 billion from the same period last year. Our operating expense percentage was 12.4%, down 0.3 percentage points sequentially, and up 1.1 percentage points year over year. Sequentially, even though we spent more absolute dollars on R&D, our OpEx percentage decreased as a result of higher revenues. And on a year-over-year basis, we had a higher operating expense percentage primarily due to higher investment in R&D costs from new project ramps including fan-out and SIP projects. As some of these projects start entering mass production during the coming quarters, we expect our quarterly operating expense percentage to stay relatively flat during the coming quarter and take a more meaningful step down during the fourth quarter. During the second quarter, operating income was $3.6 billion representing an improvement of $2.1 billion quarter-over-quarter and a decline of $1.3 billion year-over-year. Without the impact of PPA-related depreciation and amortization, ATM gross profit margin would be 20.5% and operating profit margin would be 8.5%. Page 7, ATM operations. You'll find Here are a graphical presentation of our ATM P&L. On page 8 is our ATM revenue by market segment. As you can see here, we have a wide cross segment of the electronics industry. We generally don't see substantial changes in segment mix, especially when compared on a year-over-year basis. Page 9, the ATM revenue by service type. You can see here during the second quarter not much has changed from the first quarter. The service types are substantially similar, but from a longer-term perspective, we do see more wire bonding products moving towards bump, flip chip, and other advanced packaging. For us, we continue to expect our test business to outgrow our assembly as we continue to expand our turnkey business model. On page 10, you can see the results of our EMS business. During the second quarter, we had revenues of $31.5 billion, representing a decline of $3.4 billion, or 10% sequentially, and an increase of $1.1 billion, or 3% year over year. Our original expectations for the second quarter were based on already reduced rent rates within a few of our key consumer and communication business lines. However, demand for our EMS services were trimmed during the quarter. and the revenues for the quarter came in somewhat short of our expectations. We believe the revenue shortfall ultimately does not impact our second-half seasonal growth plans. The year-over-year increase was driven by higher revenues from our industrial and communications-related products. Our EMS gross profit stayed relatively flat, both sequentially and year-over-year, at $2.9 billion. Gross profit margin for the EMS business unit came in at 9.1%, representing a 0.7 percentage point improvement from the previous quarter. This improvement was driven by product mix and the reappropriation of production personnel to R&D for new product introductions. Compared with the previous year, EMS gross margin declined 0.3 percentage points This difference was primarily the result of generational device differences in product mix. During the quarter, our EMS business unit's operating expenses were higher than anticipated. Higher operating expenses at EMS are related principally to three items. One, the reappropriation of personnel from production to address new product introductions and customer opportunities. Two, non-China site ramp-up costs. And three, professional fees and other transactional related expenses. Operating profit for the quarter was $0.5 billion, which is a $0.2 billion decline sequentially and a $0.3 billion decline year over year. Our operating margin came in at 1.6%, which is a 0.5 percentage point decline sequentially and a 1.1 percentage point decline year over year. Operating margin was behind our initial expectations primarily as a result of lower-than-expected loading and higher-than-expected operating expenses. On page 11, you will see our product segment mix within our EMS business. Our consumer product segment declined 14 percentage points of segment share sequentially, while our communications segment increased 11 percentage points. This movement is fairly in line with our customers' product seasonality. On a year-over-year perspective, the segment shares are fairly similar outside of the weaker computing and storage segments. On page 12, you will find key line items from our balance sheet. At the end of the quarter, we had cash and cash equivalents in current financial assets of $66.3 billion. Our interest-bearing debt remained unchanged at $201.4 billion. Our unused credit lines amounted to $218.5 billion. And our EBITDA for the quarter was $18.1 billion. On page 13, you'll find our pro forma equipment capital expenditures page. Machinery and equipment capital expenditures for the second quarter totaled $444 million, of which $233 million were used in packaging, $184 million in testing, $21 million in EMS, and $6 million in interconnect material operations. We now expect a moderate step up in the amount of capital expenditures we will be spending during the year. Our capital expenditures are now on pace to be somewhat higher than 2018 as we invest for 2020 business and beyond. The extent to which capital expenditures will be pulled into 2019 or be pushed out to 2020 is currently unclear as we attempt to align our near-term needs. We hope to have more clarification available next quarter. So business definitely appears to be picking up. The third quarter is traditionally supported by a slew of differing product launches vying for a spot on consumers' holiday season wish list. It is a time when inventories are built in anticipation of forthcoming consumer demand. So for us, As products get launched throughout the third and fourth quarters, good sell-through will lead to sustained manufacturing after launch. The interesting problem we have with the latter half of this year is that in a normal year, we would be incredibly excited with the customer outlooks we have. This year, though, is not a normal year. It is a year in which we have a trade war between the two largest GDPs in the world. There may be some tariffs or there may be a lot of tariffs or there may be no tariffs at all. Supply chains may have to be shifted. Customers may have substituted vendors or components in their products. There are so many moving pieces in this environment, and no one really knows if consumers in any given geographical region will become more or less likely to buy any particular product. Though we are incredibly confident in the longer term, we really have no basis of extrapolation for the situation we are in right now. We can just make a call on what we have in front of us and wait for further clarity as the quarter develops. We're looking for our ATM business to be returning to our previous year peaks, albeit with a different product mix composition. We're targeting our margins to get close to or be similar to that peak, but for the sake of simplicity, we're just saying we will be similar with the previous third quarter in revenue and gross margin. We're looking for our EMS business to be on a pace slightly ahead of where it was in the third quarter last year, but not yet to its peak in the fourth quarter. The business should get to be somewhere in between. For us, with these types of large ramps, it's a bit more difficult to gauge where exactly in that ramp will be by the end of the third quarter. It's a bit like trying to guess the exact finishing time of a racehorse. For the sake of simplicity, midway between the two quarters would be a reasonable approximation of where our EMS business will get to. As our EMS business continues to invest in R&D for new product introductions during the latter part of 2019 into 2020, operating margins will be a little bit below our target levels. We're looking for EMS operating margins similar to first quarter 2018 levels. Do we have questions on the floor?

No questions.

Thank you. Still digesting everything. I guess the first question just on the third quarter getting back to prior peak. Maybe discuss a bit more details on how the ramp looks this year. if it's still driven by the normal mobile mix or how you're seeing from the other segments, given the trade war, just as you look at, like, consumer, auto, industrial, compute, or if you think it's just mobile-led. And if you could give an early view on sustainability, it usually seems like based on the year, fourth quarter can swing up or down. But at this stage, if you could give a follow-on view into fourth quarter.

I think in the second half, particularly in the third quarter, I think in terms of segment, communication seems to be performing stronger than the other. And from a whole year perspective, I think communication this year will continue to be the strongest segment, where the computing, if we're excluding crypto, I think it's going to be sliding a little bit compared to last year. whereas consumer and others, industrial, were maybe flattish or slightly down from last year. I think in this year, we're still continuing to look at our revenue on a sequential growth on a quarterly basis. For the whole year, both for ATM and for EMS, in ATM, we are still targeting at some mild growth. on a four-year basis where EMS will continue to grow.

And could you maybe just quantify on the CapEx? You mentioned a step up, so if you can give a bit of detail, magnitude, and priorities for the CapEx. And with still coming in at the end of the year, just how are you looking at combined your stepping up on investment this year, but just a rough sense after the merger, if you think Percy's investments would go back to some consolidation or if you could give a rough view how CapEx could change after the merger.

I think we are looking at some step up on our CapEx reasons. And I think the increase will by and large mostly coming from more test businesses that we are going in. I think in the earlier part of the year we have already indicated that we will be increasing our investment in TESS, and we are making quite a bit of progress, and we're seeing in the second half the incremental ATM business mostly coming in turnkey by nature, and so we are increasing investment into TESS as well. So that's really as a result of how our business combination is shaping up.

If I could ask on the China business, you recently consolidated your China JVs again. Could you talk about the motivation buying back to get the 100% on the China JV? And second part, on the mix from China, just how are you seeing trade war in terms of we've had a lot of disruption with the Huawei supply chain? How do you think your position, traditionally you've been very strong there, but you also face local China OSATs. How do you see your market share and opportunity just looking at the Huawei supply chain? And how do you see leverage to their strength coming back in smartphone and infrastructure? Well, the first part of the question is on the JV, consolidation of the China JVs.

Okay.

I think at the beginning we were – our partner was looking at our capacity as it is in China when they still have a sizable logic operation or logic design house. And that part of the business, from their perspective, is dropping quite significantly. And they're putting a lot more focus or resource into memory, which doesn't fit with the existing capacity that we have in China that much. So I think considering the situation, they would rather pull out of that investment. And for us, it gives us better control of the operation we have in China. So it's a win-win situation for us. So we've decided to buy back the shares that they hold. In terms of the overall China situation or Huawei situation, Of course, we don't discuss customers' particular situation. But as a whole, I think we maintain a very diversified customer base. There will be ups and downs between different customers. But things seem to balance it off, having a diversified portfolio of customers. And I think whatever is happening at this point has – actually very little impact on our overall business. And in terms of our China operation, I think there are some requests, specific requests for us to move some of the capacity over to China. And that's the reason why we are actually ramping up selective sites in China to meeting the customer requirements. And I think whatever move we do, looking at this ever-changing dynamic situation with the trade war going on, I think our strategy is really to stay as flexible as possible and try to relocate our resources per customer's request, provided that whatever move that we make, make economic consensus for both parties.

Thank you. Name and company, please.

Yeah, hi. Good afternoon. This is Rick Xu from Daiwa Securities. The first question, again, is a housekeeping question about your utilization rate across your wire bound testing and pumping in Q2, and how do you see that, you know, progressing into Q3?

In Q2, I think across the board, our utilization is around 75%, give and take a percentage or two. In third quarter, I think with the growth in our revenue, the overall demand, I think the utilization will be above 80% across the board, including wirebond, flip chip bumping, and also test.

Okay, thank you. So I think you guys used to provide your growth margin breakdown in between packaging and testing, I can't find the numbers this time. So can I have your gross profit margin number for your packaging and testing?

We don't release those anymore. We can tell you that test historically is higher than the overall group.

Okay, so this is becoming the new norm.

We find that the industry doesn't seem to give nearly as much detail as we do. And a lot of analysts find our releases having too much information. So we're trying to reduce the number of numbers that you guys deal with. Not from me.

Okay, thank you.

It has something to do with when dealing with our customers, we'd rather be somewhat more conservative than volunteering too much information.

Okay, great. Okay, third question is this. One of your peers, Encore, has also released their guidance. I think the Q3 revenue is going to grow as high as almost 20% quote-on-quote. So I think my question is, do you guys feel any pressure of market share reshuffle to your peers, or is this just kind of an offer for Encore?

I don't think they have any growth in second quarters. And I don't know. I think we have a different style in terms of giving out information. I think the guidance that they're giving is providing a very, very wide range, you know, a range more than about 10 percent range. Whether that is meaningful or not, I'm not sure. I think they're taking that same approach for Quarter 3 guidance as well. But in a nutshell, I think, by the way we're looking at our own business, we believe actually we're gaining shares instead of losing shares to one of the competitors.

I would recommend that you look at year-over-year type comparisons.

Sure. Okay, just a quick follow-up to Randy's question before. I missed one little part. I think, Joseph, you said for your ATM business this year, you're still targeting for young year growth. And what about your EMS? Your ATM business, you're targeting young year growth, right? And what about your EMS?

EMS will definitely grow as well.

Thank you.

Additional questions on the floor? We have one question online. Mr. Chokhu? Chokhu, are you there?

Yeah, hi. Thanks for taking my questions. I hope I'm audible. My first question is on 5G. I think you did mention 5G as a key product driver for next year. Could you give us a little bit more detail in terms of what do you expect on 5G side, both for ATMs as well as for SIP related business in terms of more details in terms of how that is going to influence growth? And for SIP specifically, could you talk a little bit about what are the kind of products, what kind of products that you're working on, 5G-related SIP products, especially for 2020, if you could give us some direction indicator there. And I have one more question.

In terms of SIP-related products, I think we're not necessarily being particularly specific about the product itself, but we do believe that our SIP technologies provide a very unique way to manufacture devices that usually cannot be manufactured together on one die per se. And it also provides a lot of space savings. There are a lot of different applications, but I think we would prefer not to talk about the specific devices at this time.

I think as Ken mentioned the last time, heterogeneous integration is really the trend in our space, and I think 5G, the emergence of 5G is really one of the forces that is pushing that. So the strategy that we have is really to maintain as deep a coverage as possible, as wide a coverage as possible with all the major 5G players in the world, regardless of what application there is. And I think that's exactly what we're doing, and we have been maintaining that leadership position for a while already. And as you can see, we are also picking up quite a bit of our R&D I think a lot of the efforts that we are putting in is really to address this emerging 5G. Although at this point, without actually quantifying what we are having in terms of 5G, 5G, we are seeing that the 5G deployment seems to be picking up speed. regardless in the handheld devices or in the infrastructure itself and going forward to automotive as well. So we are seeing this coming and we are preparing for it. And we will be expecting 5G to really become one of the mainstream business that we have getting into 2020 and then beyond.

Okay. So maybe just to ask a little bit about . Is it fair to say that the increase in number of projects and engagements that you have in next year, 5G is a major driver for that, or is it just one of many?

It is one of the potential things we can . SIPP doesn't just address 5G. We think that SIPP is definitely a TAM expander for us. It addresses all things beyond 5G, all electronics manufacturing.

Okay, fair enough. The second question I had, now that we are getting closer to the Spill consolidation. Could you talk a little bit about what are the areas where you could collaborate better with Spill now that Spill has been consolidated at least in the company for over a year now? And are utilizations at Spill lower than, say, the ATM business, or are they largely similar? Yes. So I just wanted to understand where are the potential low-hanging fruit in terms of consolidation benefits as we look into next year?

We're still in the restriction period, and we don't graduate until end of November this year, provided we do graduate. And one of the key factors that prevent us from not graduating is reduced We don't talk about whatever integration that we will have going forward, I think. But at this point, we are allowed to align our R&D activities, and we are doing that. Going forward, I think it's very obvious that the synergies will be coming from a lot of the overlapping investments that we have been doing in all aspects of our operations. But without getting into detail, I think that's the general direction that we're going to head in. And, you know, what exactly, what are the steps or when or how exactly we're going to do that really depends on the situation at that point.

Would you characterize more of the potential benefits at operation level, at manufacturing level, or more in terms of corporate expenses, R&D, and those kind of areas?

I think it's still a little bit too sensitive to really discuss this in detail. So I think, like I said, the general direction is really to try to eliminate or to reduce at least a lot of the duplications that we made in all aspects of our operation. That includes the operating expenses, including the manufacturing, including capacity, and so on and so forth.

Okay. Maybe if I can squeeze in one more question. Could you talk a little bit about the progress that you're seeing on the fan-out side? I think we've been setting up investments since last year and I think meaningfully this year as well. Could we give some kind of indicator of how big fan-out could be next year as we ramp some up the businesses? I think you mentioned that this year could be specific for some customers and it's gotten out in 2020. So is it possible to get some kind of quantifiable numbers in terms of what fan-out could represent, especially since you mentioned some of the wire bonding is also starting to move to vapor-level packaging even for more entry-level kind of chips?

So I think you're referring to our panel fan out, right? Our panel fan out is exclusive to one customer this year. But during next year, I believe it's Q3 next year, it should be released to multiple customers. At this time, we do have a sizable queue of customers looking to see whether panel fan-out would work for their products. Given the size of such demand, I think we hope to be able to drive fan-out costs down and be able to create more penetration across existing package types, not just high-end. Is that good enough?

We should be expecting fan-out as more than 5% of ADM revenues next year, or is it too high to expect that kind of progress next year?

We don't have a set percentage at this point for our panel fan-out outlook. Fan-out in general, we are looking to grow relatively quickly. I think we were looking for about 2% to 3% of packaging revenue. targeting that for this year. I don't have a progress report on that at this point.

I think we've mentioned to everyone here that we're looking at the incremental revenue coming from Fenton on an annual basis of $50 million a year. And we are still on track on this. We're continuing our investment and also R&D efforts in and out, trying to reduce the cost further by moving from the 300-minute music to panel. And things are moving along, and we are reaching our revenue growth target as well at this point. Okay. Very helpful.

Thank you. We have three more callers on the line. I think the next caller was Sunny Lin from UBS. Sunny, are you online?

Yes, I'm here. Can you hear me?

Yeah, go ahead.

Sure, thank you. I have a few questions from Bill. So number one, so if you look at Q3, how much of the growth is from China and how is that split between communication and high-performance computing? So I guess we are just trying to figure out upside from Huawei and crypto and how sustainable that is. So the second question is about 5G AIP. So I understand you guys cannot talk too specifically, but can we have some direction about group margin or ASP and market share?

In terms of China operation, I think the revenue generated out of China operation is about 13% of our overall in terms of APM. In terms of the Huawei situation, as I mentioned earlier on, we actually don't prefer to discuss any customer in particular situation. But as a whole, I also mentioned that the incident that's happening at this point has very, very limited impact on our overall revenue. or the pace of our sequential movement in terms of our business. The reason for that is really that we are still holding a very, very diversified customer base, and any particular customer's movement, as long as we're serving the whole industry, it doesn't really have a very significant impact on us. And in terms of, you were mentioning AID, of course, as I mentioned, we are engaging ourselves with all the major players in the 5G arena, and AID is certainly one of the upcoming products that we are, that we'll be seeing. So we do have a federated engagement in this, but We're not about to discuss any details on that.

Any more questions, Sunny?

So for Q3, are we able to quantify the upside from cryptocurrency?

I don't think we have anything. Oh, in Q3, you mean? Yeah. Yeah, we are seeing, you know, cryptocurrency customers are, you know, coming back, but I think our exposure to that, we want to maintain a very limited exposure with that, and I think that part of the business tends to fluctuate a lot, and it's kind of... more difficult to manage, and therefore we want to be cautious with it.

Got it. That's very helpful. Thank you very much.

Thank you, Sunny. Next caller is Warren. Warren Su with Citi.

Hi. Just one question. You said that In second quarter, you have a highly inspected operating expense from EMS side from this non-China side rate of cost. So is that a one-off expense or this expense will continue in 3Q and 4Q?

In terms of the operating expenses in, of course, the OPEX in quarter two for particular reasons, the OPEX number is quite a bit higher than previous and also kind of drove down the operating margin that we had achieved in the second quarter. I think going forward as EMS revenue going into a actually quite substantial growth going into the second half, I think the operating expenses that operating expenses on the EMS side will actually come down a bit because a lot of the upfront investment have already been made. So the overall OPEX ratio will come down and then the operating margin will come back to a much more safe value level. Although for this year, from EMS perspective, it's really a year of investment for us. We're putting out a lot more R&D efforts and also in the midst of ramping up some of our non-China sites to meet our customers' requests. So there are a lot of things going on at the same time. This year for EMS, I think it will be tough for us to reach our targeted operating margin of 4%. But we are taking measures to better control the OPEX. And then we believe, we're very confident that going into 2020, we will reach, if not exceed the target operating margin of 4% at the EMS side. And for ADM, I think we are also going through phases actually in terms of increasing our overall R&D efforts. OPEC's ratio per se, third quarter, although we have revenue growth, I think in third quarter the R&D activity will continue. So the OPEC ratio will be similar to quarter two. But that will come down in quarter four as our control measures starts to kick in. And we believe that with all these efforts that's being put up front, Going into 2020, we will see quite a bit of improvement in the OPEX ratio and therefore the operating margin on the ATM part of the business as well.

Thank you. Question is, is there any ramp-up cost for this APN capacity going forward?

We didn't get that question. Could you repeat your question?

I think for AT&T, actually, you are increasing R&D expense for AT&T. My question is, are you going to consider relocating capacity out of China? And that actually will induce some remote calls for AT&T. Do you see the same increasing cost from AT&T?

Right now, we're not being asked or we don't see the real need of moving out of China because we're not at the end of the value chain. In fact, we are actually, there's some ramping up. that we're doing in China for a customer's request. And that's part of the reason why this year, aside from R&D, our operating expenses actually came out a little bit because of the new sites that we are setting up and also expanding the existing sites capacity in Suzhou in particular.

Okay. Thank you. Okay. That's all my questions. Thank you.

Thank you. Thank you. Last caller is Sebastian Ho of TLFA. Seb, are you there?

Yes. Hey, can you hear me? Yes, go ahead. Thank you. A couple questions. The first one is on third quarter. I wonder what's driving the, what application particularly is driving the ATM and EMS growth?

Can you repeat the question?

I mean, for third quarter, which applications are growing, are the major drivers for the sequential growing for CATM and EMS fixes?

It's a pretty widespread, broad-based growth at this point. You have not typical... You have your typical drivers at this point for product launches and such, but I don't think there's any particular customer or customers that I would single out as being particularly different.

Okay. And regarding EMS, based on your guidance, it looks like the EMS grow will likely to be 40% cube on cube in 3Q. and that's pretty pretty strong i think stronger than the past few years systemality so so is there any particular reason to drop this or simply because the second quarter bit too low well i think it's a combination of both i think we are seeing new products coming out we are bringing

We are entertaining or starting mass production of some of the new projects that we engage ourselves with. And also, you know, second quarter is a little bit softer than we were expecting. So I think it's a combination of both.

Okay. And based on your OPEX ratio guidance that the QQ stays flat, Q and Q, and for Q to come down more meaningfully, can we integrate that as that implies the quarter revenue grow will be higher than the quarter revenue grow?

Can you repeat that again? Sorry.

You mean the APS?

I mean, yeah, the OPEX guide is for the whole company or just for ATM?

On ATM, we did say that we would look for OPEX, the operating expense percentage to maybe decline slightly or stay relatively flat and then take a step down in the fourth quarter.

Okay, great. Okay. And we just discussed on this, then your ATM visit is guided to grow like 10% plus, don't give me three cubes. And if the OPEX ratio is coming down, does that imply the fourth quarter, your revenue growth for ATM will be stronger than the third quarter's current show basis, so that will make the OPEX ratio come down?

OPEX in itself has an absolute number of we believe will be coming down in the fourth quarter.

Okay, so it's probably a little of both. The absolute numbers come down, but the ratio is also impacted by the revenue scale.

Sven, is your question regarding to fourth quarter operating expenses will come down, or is the ratio coming down?

Yeah, I'm trying to get a sense of that because you say that the fourth quarter OPEX ratio will come down. Okay. So I just wondered how much of that is driven by the revenue scale or absolute decline of the OPEX?

It's mostly the OPEX that come down. As I said, a lot of the front end investments that we're making will have to go into the third quarter of 2004.

Okay. I have two more questions. The next one is on testing. You said that this year the CapEx focus will be mainly for testing. So I wonder how much of this is driven by the organic longer testing time by the chips you are testing. So that's why the business is going up. So you need to invest more. or how much is driven by the increase of your turn-key business as a total ATM business?

That's too technical for me. All I know is we need to invest more because of the, I think the bulk of the incremental revenue that we have come with turn-key. And also, Given the complexity of these chips that we're testing, it's becoming higher and higher. So the test time is longer per device. Therefore, we need to make more investment into testers. I think another factor that we need to consider is really as we continue to invest into tests, I think you're actually gaining shares in your overall test business as well.

Okay, cool. Thanks. Last one for me is regarding your, just want to get your brain on the 5G, how ASC can see your content in 5G smartphone, particularly on the SIP. Do you expect your SIP content opportunity is much greater in 5G phone than 4G. And I was specifically separate that into two parts. The first phase, sub-6 gigahertz 5G and mini-meter wave 5G. So to be more specific, I wonder if for a 4G OT phone to 5G sub-6 gigahertz, whether your safe opportunity increase? And then for sub-6 gigahertz, the mini-meter wave, whether it will be another leg up?

I think the real driver is really not 4G into 5G, or if we are limiting ourselves to a cell phone application alone. I think what we're seeing is really the fashion of different applications, different areas are starting to increase, and that's what we're looking at. So as Tim mentioned, you know, the growth of our fitness is not just coming from communication or cell phone alone, but we're seeing other areas starting to adopt the SIPP packages as well.

Okay. So let me just put it simpler. So do you expect your – SIP contents to go up in 5G?

With my limited knowledge, I think so, yes.

For both gigahertz and millimeter wave phase, right?

So the way I would put it is there are more customers and more products adopting SIP, right? And Because of that and because of the need for incremental functionality within 5G type devices, we should see a higher likelihood of SIP being part of that. Now, for any given product or any given 5G device, whether that will contain a SIP product, we don't know. That's not entirely up to us. But the SIP platform does give our customers a unique way to put extra functionality instead of trying to put packet all into one dot. All right. I think that – does that help you?

Yeah. Yeah. Thank you.

All right. Thanks, Seth.

We don't have any more questions online on the floor.

Robin?

He has to get his first shot. Thank you. Robin Chang from Bank of America, Merrill Lynch. Just want to clarify, I know a lot of conversations have been out about OPEX. So the guidance for flattish OPEX for Q3 and a step down, OPEX ratio for Q3 and a step down for Q4 is a corporate level or is it ATM business only? ATM. ATM only. Okay. Okay.

Well, EMS will definitely come down quite a lot.

Okay, okay. That's because of the revenue scale, et cetera. So if I read this correctly, you spend a lot of R&D upfront costs this year, and then you'll be graduating in November, so theoretically next year you would be getting some sort of expense or cost benefit. Would it be too bold to say that overall 2020 op-tax ratio for the whole entity – could be lower than 2019? Is that the expectation that we could be seeing?

Yeah, I think with all the, I would say, the front-end type of investment that we're making this year, although we said the OPEX will increase and then the OPEX ratio will go up, but on the holding level or consolidated basis, we're still... controlling this increase to not more than 30 basis points from last year. And as I said, most of the front-end investments that we're making actually will only go into third quarter, and then when all the projects start to take off, then that ratio will actually come down, and the exact amount will also come down. And going into 2020, because a lot of the investment already made in this year, and also if we are successful in bringing out a lot of the synergies that we can come up with after the restriction period is lifted, I'm pretty confident that, yes, the overall operating expense ratio will be lower than this year.

the second question is about the the new project i think you mentioned last quarter that was specifically for a region or a market um how's that going and do we anticipate that gets adopted into a different like brazil south american market do we have like another you know area like India or somewhere with a similar type tariff structure that makes the downstream operation a bit easier? Would that be a logical assumption?

No, I don't think geography is really one of the factors. I think the effort is overall in different applications but not on a geographical expansion. on that part. What we're seeing is that we're seeing a lot more adoption now in different areas and different customers. At this very moment, from my own last count, I think we actually have about 13 projects that are going at this point, and we believe that going into 2020, that number will continue to increase, and we will be doing a lot more And we set ourselves a goal that we will have incremental revenue over $100 million a year. We're certainly on track this year. And with the momentum that we are building through a lot of the project engagements, we believe that we will continue to achieve that goal in 2020 and beyond.

Randy has another question. We've batted all the way around.

Yeah, thank you. Actually, I wanted to go back to fourth quarter for ATM, because last year it did decline a few percent. To grow this year, the ATM would have to grow a few percent in fourth quarter. So just wanted to understand, is it just a different view on the market, like last year was decelerating toward the end of the year? So are you taking a different market view, or are there certain areas you think you're getting market share or new projects for the fourth quarter to grow in ATM?

I think what we're seeing is really, you know, just looking at the forecast from our customers, we are looking at a sequential growth. type of situation in terms of ATM as well for the year. And with that, we will be looking at an annual growth in terms of our revenue on the ATM side as well. But having said that, there's still, of course, there's a lot of uncertainties in front of us because, as Cam mentioned, the trade war is still going. We are not particularly sure whether the sell-through of the end products is really going to be successful or less successful. But, you know, just looking at the overall, I think we're still kind of comfortable in saying that we'll be expecting sequential growth and annual growth as well. And I think that's largely because there are so many products that are going to be launched and also some of our own projects are starting to get into mass production in the second half, and that will last two quarters going forward for these new projects. So that's kind of given us some confidence in what we're projecting at this point.

In the related part of that question, the EMS division, Third quarter is already coming above last year. Is it also the expectation fourth quarter comes above last year? And for these SIP projects, would also carry ATM revenue or is it mostly pure EMS? So it would also help the ATM revenue.

I think we don't actually try to divide our SIP business between ATM and EMS. I think it's an overall situation. I think for overall SIP, second half does have much stronger momentum than first half because in terms of consumer, in terms of communication, they're all new products coming out. And also in this new project, we also have new New products, we also have new SIP modules that we're making for these new products. So I think it's safe to say that in the second half, both ATM and EMS will have SIP growing at above corporate average growth rate.

And the last one, just to circle back to the operating margin on EMS. You talked about a lot of investments that will improve margin next year. But is there any element of competition or product mix impacting the second half gross margin for EMS?

I don't think any of the statements today are trying to apply anything towards gross margin at this point.

you put into gross margin.

Just for the EMS, if there's any pressure, it seems like a lot of companies want to target SIP, so if you're having to bid a little bit more competitive, because the operating margin is guided back to first quarter. Part of that is investment, but is there any element of gross profit, just the product mix or competition affecting the profitability at the gross margin level?

Well, that's very hard to say. I think each different product or project is very different, and It has different material paths, really different technology requirements involved. So I don't think it's really relevant to just look at gross profit margin of the operation. We set out to say we want to set our goal at the operating level, and we set a 4% operating margin goal, and we're pretty confident that going into 2020 we will be reaching or if not exceeding that. Thank you.

All right, I think that's all the questions. Thank you, everyone, for attending. Next quarter, I think we may have a different venue, so please keep on the lookout for the time and place. Thank you.